Discussion paper

DP17447 Evidence on Expectations of Household Finances

We use panel data on expected and realized changes in household finances to study
the process of expectation formation and expectation errors. Households extrapolate from
improvements in financial situation, but a deterioration in their finances is associated with
an increased dispersion of forecasts. This increased dispersion leads to higher probabilities
of both negative and positive forecast errors. Individuals who expect negative earnings
shocks to revert too quickly save less and have a higher likelihood of being financially
worse off again in the future. A calibrated life-cycle model quantifies the consumption
smoothing and welfare implications of belief distortions.


Cocco, J, F Gomes and P Lopes-Cocco (2022), ‘DP17447 Evidence on Expectations of Household Finances‘, CEPR Discussion Paper No. 17447. CEPR Press, Paris & London. https://cepr.org/publications/dp17447